Managing Ethical Risks: Challenges in Maintaining Responsible Global Supply Chains

Managing Ethical Risks: Challenges in Maintaining Responsible Global Supply Chains

Executive Summary

  • The growing sophistication and interconnectedness of global supply chains has placed a greater imperative on multinational companies to ensure that proper due diligence and ethical and responsible sourcing practices are maintained throughout their supplier networks. 
  • Many governments are increasingly placing more pressure on multinational firms to conduct further due diligence throughout their supply chain to guard against potential use of forced labor, human rights, environmental, and other ethical risks within their supplier network. 
  • In particular, over recent months, U.S. authorities have targeted numerous foreign entities suspected of having allegedly used forced labor or committed human rights violations through Withhold Release Orders (WROs) primarily targeting but not limited to China’s Xinjiang region. 
  • The global debate on the extent to which businesses should be taking the lead on tackling social, environmental, and human rights supply chain issues remains a contested one. For instance, while most E.U. multinational firms agree that more needs to be done to address these challenges, others highlighted concerns over burdensome compliance costs and questioned how realistically such enforcement mechanisms can be imposed.
  • Everstream Analytics takes a closer look at the challenges confronting global manufacturers and suppliers from across various sectors — including life sciences and healthcare, retail, technology, and consumer — amid growing pressures to combat ethical violations from a supply chain perspective. 

Background

For many governments around the world, the desire to protect human rights by preventing forced labor, child labor, or other forms of indentured servitude within global supply chains remains a major priority. As public concerns continue to surface over alleged supply chain-linked abuses, multinational firms are increasingly facing pressure to undertake greater due diligence deeper into their supply chains in order to avoid working with suppliers engaging in possible social, human rights, and labor violations.

In the wake of greater reputational risks and regulatory pressure, multinational firms are therefore finding the need to factor in the reputational, regulatory, and financial risks of being associated with such suppliers into their overall risk assessments and corporate compliance programs to ensure ethical and responsible sourcing practices. In particular, more recent developments have come as a number of countries — ranging from the U.S. to Germany — have issued or proposed tighter regulatory restrictions or import bans to crack down on products that are allegedly produced through forced labor, child labor, and other forms of indentured servitude within an importer’s supply chain network. 

Everstream Analytics takes a closer look at the challenges confronting global manufacturers and suppliers from across various sectors — including life sciences and healthcare, retail, technology, and consumer sectors — amid growing pressures to combat alleged human rights, forced labor, and other ethical violations within a supply chain. This Special Report also underlines the importance of having end-to-end supply chain visibility and explores potential additional measures supply chain professionals can take in order to ensure that sustainable and responsible practices are maintained throughout their supplier network. 

Why Does Supply Chain Visibility Matter?

Supply chain visibility involves the process of tracking the movement of products and their inputs from sourcing raw materials to production and distribution, and all the way through to its end-use. While global supply chains have become more sophisticated and span across multiple regions, many companies struggle to maintain visibility across their supply chain network and may find it challenging to assess risk levels accurately. This lack of transparency within a supply chain network has meant that multinational firms remain highly susceptible to major financial and reputational risks should they be found working with suppliers engaged in unethical practices. 

The risk of multinational firms sourcing from suppliers further down the supply chain that may be susceptible to such practices — which can range from alleged forced labor violations to poor industrial safety standards — has further underlined the importance of having end-to-end supply chain visibility. A joint survey conducted by the Business Continuity Institute (BCI) and Everstream Analytics on the impact of the COVID-19 crisis found that while 95.5 percent of respondents knew the locations of either their critical or non-critical Tier 1 suppliers, there was considerably less knowledge or visibility for suppliers further into the supply chain despite the vast majority of disruptions originating in Tier 2 or beyond: only 11.8 percent of respondents performed due diligence on critical suppliers as deep as Tier 4 and 11.3 percent for Tier 5 and beyond.

Despite many companies lacking this visibility across their supply chain network, certain governments are nevertheless placing the burden on multinational firms to carry out sufficient due diligence abroad beyond Tier 1 supplier levels. For instance, under a new proposed ‘supply chain law’ by German authorities in July 2020, companies with a registered office, central administration, or principal place of business in Germany with over 250 employees and an annual turnover of more than EUR 40 million (USD 47.6 million) would be required to track workers’ rights, industrial safety, and environmental standards not just within their own organization but also at the sub-contractor and supplier levels. The proposed law was initiated following a major textile factory fire in Karachi, Pakistan that killed 258 people in 2012 and a dam collapse at a Brazilian iron ore mine in 2019 that killed more than 250 people – both of which had direct links to German companies. The proposed law aims to build upon Germany’s 2016 National Action Plan on Business and Human Rights (NAP) that saw firms encouraged to voluntarily disclose information on human rights risks.

But the debate on whether the extent to which businesses should be taking the lead on tackling social, environmental, and human rights supply chain issues remains a contested one. According to a survey conducted by the European Commission (EC) earlier this year, the report found that while firms agreed that more needed to be done to ensure these challenges were addressed, there was less consensus on the liability and enforcement mechanisms outside of individual national legislation to help fill the void. The EC survey found that just over a third of businesses undertake due diligence measures taking human rights and environmental issues into account, while the majority only conducted due diligence with their Tier 1 suppliers only. On April 29, 2020, E.U. authorities announced that the EC will introduce new legislation on mandatory human rights and environmental due diligence for companies.

Forced Labor and Human Rights Violations

The deep interconnectedness of global supply chains has placed a greater imperative on multinational companies to ensure that proper due diligence and ethical and responsible sourcing practices are maintained throughout their supplier networks. Whether automakers and electronics manufacturers are sourcing cobalt from Congolese mines, or chocolate producers are importing cocoa from West Africa, companies are being subject to additional pressures to ensure that goods and materials sourced within their supply chain are compliant with acceptable human rights and labor standards.

According to the International Labour Organization (ILO), forced labor violations can range from abusive working conditions, withholding of wages, forced movement restrictions, and physical and/or sexual violence against workers. The Global Slavery Index estimates that the U.S. alone imports over USD 114 billion (EUR 94.5 billion) worth of forced labor products each year, including USD 91 million (EUR 77.5 million) in electronics, USD 47 million (EUR 40 million) in clothing, and USD 1 million (EUR 851,280) in cocoa. Similar estimates have come out of the U.K. that around GBP 14 billion (USD 18.1 billion; EUR 15.5 billion) worth of goods in 2019 were sourced from countries with a high risk of modern slavery.

Withhold Release Orders (WROs)

Over recent months, U.S. authorities have targeted numerous foreign entities suspected of having allegedly used forced labor or committing human rights violations through Withhold Release Orders (WROs) particularly from China’s Xinjiang region. From May 1 to September 8, 2020, the U.S. Customs and Border Protection (CBP) issued 11 WROs — an unprecedented total within a single year — aimed at restricting the import of goods suspected of being manufactured or produced by forced labor (see Annex A). Under the WRO, U.S. CBP agents would be able to detain, re-export, or potentially destroy goods brought into the country that are made by the identified companies after an investigation. Importers are still allowed to bring the products into the U.S. if they are able to provide proof that their goods were not made with forced labor. However, should the importer be unable to provide this evidence, the product must be sent back or made subject to U.S. customs authorities. 

The increased scrutiny comes amid rising tensions between the U.S. and China and heightened reputational risks for companies working with suppliers suspected of allegedly using forced labor inputs in Xinjiang or elsewhere in China. In early December, the Trump administration issued a blanket ban on cotton products from Xinjiang and announced that U.S. CBP and the Department of Homeland Security would start detaining shipments containing cotton and cotton products from Xinjiang Production and Construction Corps. The blanket ban on cotton comes as the U.S. House of Representatives in September voted in favor of a proposed Uyghur Forced Labor Prevention Act (UFLPA) that could potentially impose an import ban on all products mined, produced, or manufactured with forced labor in the Xinjiang region. In response, Chinese authorities recently issued their own white paper rejecting U.S. and Western claims of alleged human rights violations in Xinjiang.

Supply chain impacts

The unprecedented increase in entities being targeted through the WRO and other forms of trade sanctions has heightened risk for companies sourcing goods or materials from Xinjiang and China-based suppliers. While the WROs are not strictly limited to China, the targeted sanctions could have a considerable impact on global sourcing flows and procurement strategies across major industries including retail, technology, consumer, life sciences and healthcare, and automotive and mobility among others. 

The U.S. CBP estimates that the WROs could re-direct sourcing for around USD 200 million (EUR 170.6 million) worth of Chinese imports from Xinjiang. For retail alone, Xinjiang accounts for 85 percent of China’s cotton production and around one-fifth of cotton production globally. In 2019, the top leading exports by sector from Xinjiang included mechanical and electrical products (27.1 percent); clothing and accessories (25.9 percent); and footwear (10.4 percent). (Detailed information can be found in Annex B.) Over 80 major foreign and Chinese brands are believed to have directly or indirectly sourced goods produced by forced labor in Xinjiang. At least five Western auditing organizations have recently said that they will not be able to help companies perform supplier audits in Xinjiang, citing government controls that have made it more difficult to assess whether factories and farms are relying on forced labor.

Concerns over supply chain exposure to forced labor or other unethical practices are not only confined to U.S. companies sourcing from Xinjiang or China more broadly. British companies have been similarly urged by the U.K. government to review their China supply chains over alleged labor violations particularly for women in Xinjiang. The developments come as media reports have surfaced alleging that personal protective equipment (PPE) exported to several countries (including the U.S., U.K., Germany, Italy, and South Africa) during the COVID-19 pandemic may have been sourced from North Korean forced labor in factories in Dandong, China.  

In Malaysia, the U.S. CBP issued several recent WROs targeting entities allegedly engaged in forced labor practices that could have a considerable impact on leading manufacturers in its palm oil and rubber glove-producing industries. In July, U.S. authorities banned shipments from Malaysia by Top Glove Corporation Bhd, the world’s leading rubber glove maker, over allegations of forced labor, although the company has been cleared of such practices by the Malaysian government. Malaysian palm oil manufacturer FGV Holdings has also been subject to WRO from the U.S. over forced labor, while another major manufacturer, Sime Darby Plantation, has expressed concerns over a similar ban. The developments come as the U.S. Department of Labor (DOL) identified rubber gloves manufactured in the country as part of a list of goods produced by forced labor this year after having already listed electronics and garments under the same category.

Outlook and Recommendations

The evolving risk landscape has underlined the importance of end-to-end supplier visibility and conducting due diligence to ensure ethical and responsible sourcing throughout a company’s supply chain network. Everstream Analytics has outlined below a series of recommendations that companies should take into consideration when addressing and mitigating these reputational risks:

  • Take proactive measures to manage ethical risks: When attempting to ensure ethical and responsible practices, the most effective way to protect against supply chain abuses is ultimately a contract or clear agreement between all parties to comply with certain standards. While such a contract may not guarantee that standards won’t be violated, it does however outline certain standards that could result in the termination of a relationship with a supplier if not complied with. 
  • Vet suppliers throughout a multi-tier supply chain: Although vetting supplier networks can be time-consuming and resource-intensive, companies should be mindful that proactive monitoring can not only bring financial benefits (e.g., guarding against potential procurement fraud whereby companies can deceive an organization to make financial gains) but also mitigate reputational risks if the supplier that they are working with may be engaged in potential unethical practices.
  • Ensure compliance within your supply chain: In addition to potential reputational damages, labor, human rights, environmental, and other types of ethical violations could lead to serious delays for businesses in bringing products to market. By mapping out their supplier networks and conducting compliance audits, companies can work towards addressing the challenges that opaque and complex supply chains can pose to ensure that they are aware of the materials that are being sourced for finished goods.
  • Invest in supply chain monitoring technology and solutions: To help with mapping out supply chain networks, companies should look at investing in supplier monitoring tools that can help ensure that companies are successfully identifying suppliers that may be at risk of engaging in unethical supply chain practices. Investing in technological solutions can not only help companies gain further transparency across its supplier network, but also ensure that firms have the tools that they need to maintain agile supply chains. 

Appendix

ENTITYDATE ISSUEDCOUNTRYSECTORPRODUCTS
Inner Mongolia Hengzheng Group Baoanzhao Agriculture, Industry, and Trade Company Ltd.10/14/2020 (Updated)ChinaConsumerStevia leaf (stevia rebaudiana)
Hefei Bitland Information Technology Co., Ltd.09/08/2020ChinaTechnologyComputer parts
Xinjiang Junggar Cotton and Linen Co., Ltd.09/08/2020ChinaRetailCotton and processed cotton
Yili Zhuowan Garment Manufacturing Company09/03/2020ChinaRetailApparel
Baoding LYSZD Trade and Business Co. Ltd.09/03/2020ChinaRetailApparel
Lop County Hair Product Industrial Park08/25/2020ChinaRetailHair products
Hero Vast Group08/11/2020ChinaRetailGarments
Lop County Meixin Hair Products Co., Ltd.06/17/2020ChinaRetailHair products
Hetian Haolin Hair Accessories Co., Ltd.05/01/2020ChinaRetailHair products
Top Glove Sdn Bhd and TG Medical Sdn Bhd07/15/2020MalaysiaLSHCDisposable rubber gloves
Annex A: Notable entities subject to the U.S. Withhold and Release Orders in 2020. Source: U.S. Customs and Border Protection (CBP). 
PRODUCT CATEGORYSECTORPERCENTAGE
Mechanical and electrical productsEngineering and Manufacturing27.1
Clothing and accessoriesRetail25.9
FootwearRetail10.4
Agricultural productsConsumer6.1
Textile yarn, fabric and productsRetail5.16
ToysRetail4.55
High-tech productsTechnology2.83
Ketchup and tomato sauceConsumer2.38
Auto partsAutomotive and Mobility2.5
OtherOther13.1
Annex B: Major exports from Xinjiang Province by product category and sector (2019). Source: Wall Street Journal; Urumqi Customs Administration; Xinjiang Bureau of Statistics. 

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